Retirement Budget Planning – How Much Will You Need?

Do you have any idea how much money you’ll need each year once you’re finally retired?

If you said “no”, then you’re not alone. Unfortunately as many as 41% people between the ages of 18 and 29 have never really thought about retirement planning. What’s worse is that 20% of people above the age of 60 said the same thing.

While those may be facts, you don’t have to be one of those people. The absolute key to knowing how much you need to save for retirement starts with first understanding just how much you’ll need once you get there. That’s why you need to spend some time working on retirement budget planning. By doing so you’ll have a firm grasp on the kinds of expenses you’ll encounter, and then from there you can determine how you’re going to budget for them.

Here are a couple things you’ll want to consider as you plan out your retirement expenses.

The 80% Approximation:

If you’d like the easy answer to how much you’ll need during retirement, then in the absence of all other information there is a an old rule of thumb that says to take your current gross household income and multiply it by 80%. The answer will be the retirement budget you should try to shoot for.

The logic behind the 80% rule is that because you’ll no longer be paying as much in taxes, FICA, life insurance, childcare expenses, and work-related expenses, 80% of your standard of living now should be a fine budget for your live out your golden years with.

While that’s an okay way to make a general approximation, it’s really just that – nothing more than an approximation. I’m not sure I’d base my future life savings on such a quick approximation. To make sure you get it right and adequately save, you’ll want to really give some thought as to what your true expenses will be and how much you’ll want to buffer them.

Retirement Budget Planning Steps:

Here’s how to really get a strong grasp on how much you’ll during retirement:

Look at your expenses now. Look back through your checkbook and credit card statements over the past 6-12 months and consider everything. Chances are that what you spend your money on now will likely be the things you spend your money on during retirement. And as a result you’ll want to budget for them (as a starting point). If you’d like some help coming up with categories for everything, check out this free retirement planning template.

Now ask yourself where you plan to live. If you’re going to stay in the same house and same city, then there you won’t have too much to worry about. However if you plan to move, then chances are your living and household expenses could be completely different. You’ll want to make sure you plan for them.

What can you eliminate from your budget? If you plan to stay in your current home, is there any chance you could have it paid off by the time you retire? What about your car payments or credit card spending?

Consider new expenses that could potentially sabotage your budget during retirement. For example: Will you have to pay your own medical expenses? Are there are going to be any fairly large and costly household expenses (like a new roof or foundation)? Are you going to bored and take up an expensive hobby like travelling or golf?

Plan for inflation. On average almost everything you buy increases in price by about 3% annually. That means that something that costs $1 today could hypothetically cost $2 within a matter of 24 years. So while it’s good to tally up all the expenses you have now, remember to adjust them for inflation since you know they will cost more both on the day you retire and for the years beyond that.

Now You Can Determine Your Retirement Savings Target:

Once you know how much money you’ll need to budget for each month or year, now you’re almost there in determining how large your nest egg should be.

Take your annual needs and add an amount to them to cover taxes. You can figure out exactly how much taxes you’ll be paying by using the IRS tax tables or by approximating using 25%.

Now take that number and multiply it by 25. That’s how much you need to have saved to cover your retirement expenses.

Why 25? Because there is another wildly popular financial planning rule called the safe withdraw rate (SWR). The SWR recommends that you take out no more than 4% of your nest egg to be used as retirement income to cover your expenses. To apply that to our retirement needs calculation, we just simply divide 1 / 0.04 = 25.

By using resources like your 401k or IRA, it will be possible to get there. It just takes time and a whole lot of discipline. If you need help with coming up with a strategy to get you there check out these posts here and here.

While retirement budget planning may not be a perfect science, you can certainly see how we could likely arrive at a number that is close to what we’ll probably actually need. But more importantly that number will help us to more accurately determine what our own personal savings goals should be so that we know exactly where we should be heading.

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